NEW YORK – Wall Street threw itself a rate hike party.
U.S. stocks rallied Wednesday as investors cheered the Federal Reserve’s historic decision to raise interest rates for the first time since 2006.
The move represents a major vote of confidence in the American economy’s recovery from the Great Recession, which caused the Fed to slash rates to zero for the first time ever.
The Dow jumped almost 150 points soon after the decision was announced after retreating a little. The S&P 500 and the Nasdaq also advanced about 1% apiece. The gains were a sign that Wall Street was more than ready for the Fed to remove its emergency support.
It’s important to remember even after the rate hike, interest rates remain extremely low. The Fed raised its key rate from a range of 0% to 0.25% to a range of 0.25% to 0.5%.
Observers had predicted the decision would be greeted positively as it removes deep uncertainty that had been hovering over Wall Street for months.
“There will be this sense of relief that a big overhang/albatross has been lifted,” Michael Block, chief strategist at Rhino Trading, wrote in a note to clients.
But recent junk bond freakout is still a worry
The Fed telegraphed it will be patient with future rate increases so as not to kill the economic recovery. The central bank’s statement said the economy will only merit “gradual increases” in rates, which are likely to remain low “for some time.”
Fed chief Janet Yellen will have a great opportunity to set expectations when she fields questions from reporters starting at 2:30 p.m. Watch for how many times she uses the word “gradual,” or something similar.
Stocks are also getting an assist on Wednesday from the junk bond market, which is rebounding after a recent scare. Exchange-traded funds that track the high-yield market, including the SPDR Barclays High Yield Bond ETF, rose modestly on Wednesday.
Oil’s recent volatility also looms large
The junk bond fears are exacerbated by the crash in oil prices, which has caused a wave of energy defaults. Oil dropped 4% on Wednesday to around $35.90 a barrel.
Junk bond concerns have also risen following the implosion of a mutual fund run by Third Avenue that invested in risky distressed debt.
Bonds prepare for higher yields
The far safer market for U.S. government debt is also responding to the Fed decision. The yield on the 10-year Treasury note, the benchmark rate for debt, rose to 2.30% immediately after the news but then receded back to where it started the day at 2.27%.
Shorter-duration bonds are more likely to experience a jolt from a rate hike. The one-month Treasury-bill yield rose to 0.20% after the Fed decision. Earlier in the day the yield hit 0.22%, its highest level since 2009.
Will dollar strengthen even more?
After a terrific 2015, the U.S. dollar didn’t move much after the Fed decision. The euro was changing hands at about $1.09. That’s a dramatic decline from $1.25 a year ago, but better than $1.06 just last month.
The relatively strong U.S. economy along with the anticipation of higher interest rates has allowed the dollar to strengthen significantly against rival currencies this year. The question is: will the dollar keep gaining against other currencies once rates go higher?
By Matt Egan